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Suze Orman Was Right About Money Market Funds

In her last book, The Money Class, Orman urged readers to keep their emergency savings not in a money market fund, but in an interest-bearing checking account. Her reasoning: since money market funds are not protected by the Federal Deposit Insurance Corp, they don’t qualify as a truly safe repository for your funds.

Though Orman didn’t say it in The Money Class, she was likely thinking about the events of the fall of 2008, when a well known money market fund “broke the buck”, that is, the underlying investments fell below $1 to 97 cents. Investors would have lost money, but for the fact that the sponsoring institution, afraid of worsening the run on money market funds that occurred as soon as word of the loss was made public, promptly used their own reserves to make investors whole.

That was then. After several years of interest rates that are effectively less than zero when inflation is factored in, the backers of a number of money funds appear to be deciding they can afford to tell their investors bonne chance.

The most recent round of the game we can call “What Is Your Cash Really Worth?” began this summer, after European yields turned negative as a result of the crisis in the Euro. According to the Financial Times, a number of financial institutions are now beginning to warn investors that if yields on short-term investments remain negative, they will not take the hit for them any longer.

This is the latest thing in a long series of bad events that appear almost ordered up from central casting to spook the average investor out of the financial markets altogether, coming less than a month after the money fund industry beat back a regulatory effort by Securities and Exchange Commission chair Mary Schapiro to tighten regulations on the funds.

Money market funds originate in the 1970s and, over time have come to be viewed as if they were as safe as slightly lower interest paying bank savings account but, in fact, they are no such thing. They are only as good as the guarantee of the institution backing the fund. Schapiro wanted the sponsors to either put up more money in reserves or allow the price per share to float, so investors would understand that money placed in a money fund is, well, an investment, and not just a snazzier, jazzier version of a bank savings account.

In a well functioning system, the banks and fund families would want their customers to understand what they are investing in, and what the risks of those investments are. But we don't have an honest and open financial system. We have a sector of the economy that profits most by taking advantage of their customers and is very, very rarely called to account. The lesson that Wall Street took away from 2008 wasn't that bad things need to be prevented, but that they would likely be shielded from the consequences of their own bad decisions and their customers be damned.

All in all, this has the potential to end very badly for many people. If Suze Orman would begin speaking out about the latest pronouncements by the banks about money market funds, she'd be doing us all a great service.